The government imposed energy rationing programme has caused economic
growth to decelerate markedly, particularly in industry, which has been
the backbone of the strong economic rebound last year. The downturn in
global demand also threatens to slow export growth. As a result, the
prospects for significantly slower growth this year than originally
anticipated have increased.

Central Bank says likely to exceed inflation
target for this year. On 30 August, the Central Bank
acknowledged that the 6% upper limit of its inflation target for this year
is likely to be exceeded. The mid-August IBGE-IPCA 15 index released by
the National Statistical Institute (IBGE), which covers price increases
for the first half of the month over the same period in July, increased
1.18%, up from a 0.94% increase in July. The consumer price index for the
São Paulo metropolitan area elaborated by the São Paulo Fundação
Instituto de Pesquisas Econômicas (FIPE), confirmed that inflationary
pressures persisted in August, as prices rose 1.15%, down only slightly
from the 1.2% monthly change observed in July. The observed price
increases are well above the average monthly increase of 0.6% in the past
12 months. Despite the recent price spike, the annual inflation rate
dropped to 6.4% from 7.0% in July. Consensus data indicate a high
likelihood that price pressures will abate in the coming months. The
Central Bank is confident that next year’s 3.5% inflation target will be
met. Panellists do not share the monetary authorities’ optimism.

Currency depreciation persists but Central Bank
abstains from further monetary tightening. The Central Bank
holds the precipitous depreciation of the Real responsible for the
increase in inflation this year. The currency has been plagued by
contagion from the Argentina crisis and increased concerns among
international investors about the downside effects of energy rationing on
economic activity. In August, the Real lost another 4.7% of its
value relative to the US$, following the 5.2% nominal depreciation in
July. The currency remained well over above 2.50 Reais to the US$
threshold throughout most of August and closed at 2.58 on 7 September.
Consensus panellists expect the currency to rebound moderately by the end
of the year. Despite increased prospects for an overshooting of this
year’s inflationary target, monetary authorities were not willing to apply
the necessary monetary tightening by raising the benchmark SELIC again in
the 22 August meeting of the Central Bank board. Instead authorities
maintained the rate at 19.0%, concerned about the deleterious effect that
a sixth consecutive hike in interest rates could have on the already
ailing economy. Consensus participants expect the Central Bank to have
some leeway towards the end of the year and to lower the SELIC.
Furthermore, lower inflation and a more stable currency is expected to
give the Central Bank further room to bring down interest rates by
the end of next year.

Growth comes to virtual standstill in second
quarter. In the second quarter, GDP growth slowed dramatically
to just 0.8% over the same quarter last year. The second quarter reading
was the lowest growth rate registered since the third quarter of 1999,
when growth reached 0.5%, and was well below the 4.3% growth rate observed
in the first quarter this year. On a seasonally adjusted basis, economic
activity dropped by 1.1% over the first quarter. While service sector
growth slowed only moderately from 2.8% in the first quarter to 2.2%, the
expansion in both industry and agriculture came to an abrupt halt.
Industrial output, which accounts for 37.2% of GDP, accounted for the lion
share of the slowdown, as businesses were faced with both higher interest
rates and forced production scale backs needed to comply with the
government’s energy rationing programme. As a result, industrial output
slowed to 0.4% in the second quarter, compared to 5.8% in the first
quarter. Within industry, manufacturing experienced the strongest
slowdown with year-over-year growth dropping from 6.4% in the first
quarter to just 0.4%, while construction activity decelerated from 4.5% in
the first quarter to just 0.3% in the second quarter. Finally, due to low
international prices agricultural output slowed from 4.5% in the first
quarter to 0.2% in the second quarter.